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Thursday, July 7, 2011

Investment Report - July 2011: Net Payout Yields

June was a good month for the Net Payout Yields model on a relative basis. The model outperformed the SP500 by 0.67% with a loss of 1.16% versus the 1.83% loss for the benchmark. Naturally on a absolute basis the model had a disappointing month, but it performed as expected by being less volatile than the benchmark and holding up better during the worse parts of the big drop mid month.

The model remains fully invested with an average weight of only 2% cash for June. The goal of the model is to let the companies themselves buyback stock at lower to take advantage of any market weakness rather then trying to time the market.

Trades
Only one trade was made during the month. Wells Fargo (WFC) was sold as the stock failed to keep the Net Payout Yield at acceptable levels. The stock was replaced in July with Travelers (TRV) that has an extremely high NPY of around 20% given its consistent large stock buybacks.

Top Performers
Even considering the nearly 2% loss in the SP500 for June, this model had three stocks with over 4% gains. Accenture (ACN) had a great earnings report. Lockheed Martin (LTM) had a nice bounce as the market has become more comfortable that defense spending won't be cut as much as feared. Microsoft (MSFT) finally got a bounce after lagging for most of the year.

Bottom Performers
Naturally with a weak market, the model had several stocks with big losses for the month. The biggest loser was Cisco Systems (CSCO) that continues to post weak results even has they accumulate cash and ramp up dividends and stock buybacks. Gap (GPS) along with CSCO lost nearly 7% after posting weak results amid cost pressures with increased cost of cotton and higher costs in manufacturing areas in Asia.

Other weak performers were Medco Health Solutions (MHS), Capital One Financial (COF), Chubb (CB) and Boeing (BA) which all lost roughly 5% for the month. BA has been subsequently sold in early July has they've failed to reinstate a stock buyback program leaving the NPY below attractive levels.

Besides BA, all the other companies have significant stock buyback programs that provide for downside support during the weakness. In addition, the buybacks tend to help provide earnings surprises down the road leading to long term gains.

Conclusion
As seen with the May and June results, the model tends to outperform in weak markets. In addition, the higher yields and stock buybacks from these large cap financially strong companies allows investors to sleep better at night knowing that these companies will benefit from the weakness leading to bigger gains in the future.

Investors should understand that losses during a market selloff like the last two months or even during the financial crisis should be expected in this model, but a major key to any investment is the ability to bounce back. One of the biggest issues with investors during the financial crisis is that numerous stocks such as Lehman Brothers and numerous other financial institutions went out of business or were sold at extremely low levels. Investors in those companies lost most of their capital and hence weren't able to participate in the recovery. These NPY companies may lose money from time to time, but they should always have the ability to survive and than thrive.

Disclosure: Long all stocks mentioned in the article in client and personal accounts. This article is meant for informational purposes and should not be construed as investment advice. Please review the full disclaimer page.